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Earnings, value and EMs: the market trends for 2021 in charts



It has been a head spinning year for investors. The global Covid-19 pandemic triggered a stunning rout in equity markets. Then came a sharp recovery driven by the rapid response from governments and central banks. Here’s a look at that year in charts and what they suggest for 2021:

The key to this year’s rebound in equities and corporate bonds from the lows was the sheer scale of central bank support.

A gush of government bond purchases has anchored long term interest rates at extremely low levels and will continue during 2021, albeit at a reduced pace. JPMorgan’s strategy team expects $5tn of global central bank balance sheet expansion in 2021. “Central bank balance sheet expansion in 2021 might be only half of 2020, but that pace would still be associated with asset price inflation,” it says.

Column chart of Assets ($tn) showing The large central banks added $8tn to their balance sheets this year

Tech and high quality stocks led the way from the depths of March, but during the second half of the year, investors started rotating towards stocks more sensitive to the economic cycle, cheaper “value” stocks and high-yield bonds. That has been spurred by expectations of a broader economic rebound next year as vaccines for Covid-19 are rolled out. Regulatory approvals of vaccines have accelerated the pace of a broad market rotation, with smaller companies seeing strong gains.

Bar chart of Equities and credit surge from their March lows showing Market performance dictated by central bank action this year

The bounce from March is certainly impressive but does raise a concern that markets have borrowed heavily from 2021 returns. Global and US share markets are set to record two consecutive years of double digit gains and history suggests that a string of three straight years of double digit gains is rare but can occur.

Column chart of Total return over calendar year (%) showing The US has led global equities into another year of double-digit growth

So does 2021 extend the streak? Or will already high valuations weigh on returns?

The answer rests with the scale of an anticipated corporate earnings recovery next year. As shown here, the current consensus estimate for bottom-up earnings per share for the S&P 500 for the 2021 calendar year is $169.20, which would represent an increase of 21.7 per cent from 2020. That would represent a record high EPS for the blue-chip benchmark and would come after a forecast earnings decline of 13.8 per cent in 2020.

Bar chart of S&P 500 earnings per share estimates versus results showing Wall Street is usually too bullish on earnings

One wrinkle is that estimates by Wall Street for earnings over the next year are usually 7 per cent too high according to John Butters, senior analyst at FactSet. Apply that factor and 2021 EPS would deliver an actual figure of $157.32, falling short of the 2018 and 2019 actual EPS numbers of $161.45 and $163.02 respectively.

However, there is a case for arguing earnings might be one area that positively surprises. The pandemic sparked a dramatic effort by companies to hoard cash via costing cutting and the slashing of buybacks and dividends.

“Companies did not view this as a normal recession and cut their costs to the bone in order to survive,” said James Paulsen, chief investment strategist of The Leuthold Group. “Minimal costs on an operational basis means rising demand powers up profits.”

An earnings rebound next year is critical because valuations sit well above their average levels. Higher earnings will reduce extended valuation multiples over time. But as shown in this chart below of trailing 12 month price to earnings per share by Northern Trust Asset Management, all the main regional markets sit above their long term average.

Column chart showing equity price/earnings ratios - normal ranges and current

Wall Street certainly stands out for being more expensive than rivals. This might favour emerging market equities in 2021 and more cyclical companies. The argument is that they will experience a bigger bounce in earnings growth from a stronger economic recovery and a weaker US dollar.

The dollar’s performance is important because it helps boost global growth and corporate earnings. The chart below highlights how Wall Street can lag the rest of the world arise when the reserve currency enters a sustained bear trend. Rising local currencies help boost returns for global investors holding non-US equities.

Line chart of Indices, 31 Dec 1971 = 100 showing A weaker dollar tends to boost non-US stocks

A broader and more global equity rally suggests better times for advocates of buying value stocks, cheap companies that over the past decade have badly lagged the performance of faster growing rivals. As seen here, the ratio of value versus growth companies has recently turned upwards, but it paints a sorry picture since 2007.

Line chart of global value stocks relative to growth stocks (using MSCI All World indices, end-1999 = 100) showing cheaper 'value' stocks have underperformed for over a decade

Expectations of a robust recovery that accelerates during 2021 hinge on a return to normal after mass Covid-19 vaccinations. But “normal” in a financial market context means higher long-dated interest rates.

The Bloomberg Barclays global bond index includes government and corporate bonds that are investment grade quality. Falling yields have been a pervasive and entrenched trend. The global index with an average maturity of 9 years, currently sits at 0.84 per cent, down from 2.79 per cent over the past decade.

Line chart of Yield on Bloomberg Barclays Global Aggregate Bond index* (%) showing Falling bond yields have been an established trend

The persistent decline in bond yields against the backdrop of low inflation and the bulging presence of central bank balance sheets over the past decade leave investors in a degree of suspense from here. No one can be certain that a decade of secular stagnation will cede to a cycle of faster, more inflationary growth that is more inflationary, thereby rewarding equity holders and threatening returns for bond investors.

“While equity investors are welcoming the 2021 growth cycle, bond investors continue to focus on the longer term where growth will probably resume at a slow trajectory and inflation will remain a problem for another day,” says Katie Nixon, chief investment officer at Northern Trust Wealth Management.

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US regulators launch crackdown on Chinese listings




US financial regulation updates

China-based companies will have to disclose more about their structure and contacts with the Chinese government before listing in the US, the Securities and Exchange Commission said on Friday.

Gary Gensler, the chair of the US corporate and markets regulator, has asked staff to ensure greater transparency from Chinese companies following the controversy surrounding the public offering by the Chinese ride-hailing group Didi Chuxing.

“I have asked staff to seek certain disclosures from offshore issuers associated with China-based operating companies before their registration statements will be declared effective,” Gensler said in a statement.

He added: “I believe these changes will enhance the overall quality of disclosure in registration statements of offshore issuers that have affiliations with China-based operating companies.”

The SEC’s new rules were triggered by Beijing’s announcement earlier this month that it would tighten restrictions on overseas listings, including stricter rules on what happens to the data held by those companies.

The Chinese internet regulator specifically accused Didi, which had raised $4bn with a New York flotation just days earlier, of violating personal data laws, and ordered for its app to be removed from the Chinese app store.

Beijing’s crackdown spooked US investors, sending the company’s shares tumbling almost 50 per cent in recent weeks. They have rallied slightly in the past week, however, jumping 15 per cent in the past two days based on reports that the company is considering going private again just weeks after listing.

The controversy has prompted questions over whether Didi had told investors enough either about the regulatory risks it faced in China, and specifically about its frequent contacts with Chinese regulators in the run-up to the New York offering.

Several US law firms have now filed class action lawsuits against the company on behalf of shareholders, while two members of the Senate banking committee have called for the SEC to investigate the company.

The SEC has not said whether it is undertaking an investigation or intends to do so. However, its new rules unveiled on Friday would require companies to be clearer about the way in which their offerings are structured. Many China-based companies, including Didi, avoid Chinese restrictions on foreign listings by selling their shares via an offshore shell company.

Gensler said on Friday such companies should clearly distinguish what the shell company does from what the China-based operating company does, as well as the exact financial relationship between the two.

“I worry that average investors may not realise that they hold stock in a shell company rather than a China-based operating company,” he said.

He added that companies should say whether they had received or were denied permission from Chinese authorities to list in the US, including whether any initial approval had then be rescinded.

And they will also have to spell out that they could be delisted if they do not allow the US Public Companies Accounting Oversight Board to inspect their accountants three years after listing.

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Wall Street stocks climb as traders look past weak growth data




Equities updates

Stocks on Wall Street rose on Thursday despite weaker than expected US growth data that cemented expectations that the Federal Reserve would maintain its pandemic-era stimulus that has supported financial markets for a year and a half.

The moves followed data showing US gross domestic product grew at an annualised rate of 6.5 per cent in the second quarter, missing the 8.5 per cent rise expected by economists polled by Reuters.

The S&P 500, the blue-chip US share index, closed 0.4 per cent higher after hitting a high on Monday. The tech-heavy Nasdaq Composite index climbed 0.1 per cent, rebounding slightly after notching its worst day in two and a half months earlier in the week.

The dollar index, which measures the US currency against those of peers, fell 0.4 per cent to its weakest level since late June after the GDP numbers.

“Sentiment about the economy has become less optimistic, but that is good for equities, strangely enough,” said Nadège Dufossé, head of cross-asset strategy at fund manager Candriam. “It makes central banks less likely to withdraw support.”

Jay Powell, the Fed chair, said on Wednesday that despite “progress” towards the bank’s goals of full employment and 2 per cent average inflation, there was more “ground to cover” ahead of any tapering of its vast bond-buying programme.

“Last night’s [announcement] was pretty unambiguously hawkish,” said Blake Gwinn, rates strategist at RBC, adding that Powell’s upbeat tone on labour market figures signalled that the Fed could begin tapering its $120bn a month of debt purchases as early as the end of this year.

The yield on the 10-year US Treasury bond, which moves inversely to its price, traded flat at 1.26 per cent.

Line chart of Stoxx Europe 600 index showing European stocks close at another record high

Looking beyond the headline GDP number, some analysts said the health of the US economy was stronger than it first appeared.

Growth numbers below the surface showed that consumer spending had surged, “while the negatives in the report were from inventory drawdown, presumably from supply shortages”, said Matt Peron, director of research and portfolio manager at Janus Henderson Investors.

“This implies that the economy, and hence earnings which have also been very strong so far for Q2, will continue for some time,” he added. “The economy is back above pre-pandemic levels, and earnings are sure to follow, which should continue to support equity prices.”

Those upbeat earnings helped propel European stocks to another high on Thursday, with results from Switzerland-based chipmaker STMicroelectronics and the French manufacturer Société Bic helping lift bourses.

The region-wide Stoxx Europe 600 benchmark closed up 0.5 per cent to a new record, while London’s FTSE 100 gained 0.9 per cent and Frankfurt’s Xetra Dax ended the session 0.5 per cent higher.

In Asia, market sentiment was also boosted by a move from Chinese officials to soothe nerves over regulatory clampdowns on the nation’s tech and education sectors.

Beijing officials held a call with global investors, Wall Street banks and Chinese financial groups on Wednesday night in an attempt to calm nerves, as fears spread of a more far-reaching clampdown. Hong Kong’s Hang Seng rose 3.3 per cent on Thursday, although it was still down more than 8 per cent so far this month. The CSI 300 index of mainland Chinese stocks rose 1.9 per cent.

Brent crude, the global oil benchmark, gained 1.4 per cent to $76.09 a barrel.

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Man Group posts tenfold gain in performance fees




Man Group PLC updates

Man Group, the world’s largest listed hedge fund manager, reported first-half performance fees 10 times higher than a year ago, in the latest sign of the industry’s robust rebound from the coronavirus pandemic.

Strong commodity and equity markets helped take performance fees at the London-based company to $284m in the six months to June, up from $29m a year before when March’s huge market falls hit many fund returns, and the highest level since at least 2015. Performance fee profits were 50 per cent above broker consensus forecasts.

Man also posted $600m of net client inflows in the three months to June, its fourth consecutive quarter of inflows, although the figure was lower than analysts had expected. However, $6bn of investment gains in the second quarter helped lift assets under management to a record high of $135.3bn.

Column chart of Half-yearly performance fees ($) showing Man Group cashes in on market rebound

Man’s results highlight how strongly the $4tn hedge fund industry has bounced back after a turbulent 18 months for markets, including a huge sell-off last spring, as well as sharp market rotations and retail investor-driven rallies in meme stocks that some funds were betting against.

Last year, hedge funds, which have long been criticised for mediocre returns and high fees, made 11.8 per cent on average, according to data group HFR, their best calendar year of gains since 2009 in the wake of the financial crisis.

Investors have taken notice. After three years of net outflows, the industry has posted $18.4bn of inflows in the first half of this year.

Chief financial officer Mark Jones said the hedge fund industry was now benefiting from a tailwind after strong gains last year. “You saw hedge funds deliver exactly what clients wanted,” he told the Financial Times.

“Clients need new sources of return,” he added. They “are trying to reduce their bond exposure, and most have as much equity exposure as they can stomach”.

This year Man has made strong gains at its computer-driven unit Man AHL, named after 1980s founders Mike Adam, David Harding and Martin Lueck, which tracks trends and other patterns in markets.

Its $4.6bn AHL Evolution fund, which bets on trends in close to 800 niche markets, has gained 10.2 per cent so far this year and contributed $129m of the performance fees in the first half. The fund is shut to new money but Jones said that late last year it opened briefly to new investment, raising $1bn in a week.

Man’s first-half profits before tax came in at $323m, well above analysts’ forecasts. The company also said it would buy back a further $100m of shares in addition to the $100m announced last September. Broker Shore Capital said the company had posted “blowout” figures.

Man’s shares rose 2.4 per cent to 196 pence, their highest level in three years.

Last month, Man announced that chief investment officer and industry veteran Sandy Rattray would leave the company. Meanwhile, Jones is set to step down from the board and take on the role of deputy chief executive, overseeing the computer-driven AHL and Numeric units.

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